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Saturday, November 10, 2012

More on Wörgl: The Velocity of Money

Memehunter raises an important question in the comments of
my last post regarding Wörgl.

From memehunter:

BM,

This is a well-researched effort. I
must note, however, that you apparently neglected to address the effect of
demurrage on the velocity of the circulation of money.

Couldn't the increased velocity be
the main reason, or at least an important factor, behind Wörgl's relative
prosperity? And, if that is the case, why wouldn't it be
"sustainable"?

Memehunter then pointed me to an article on this point, from
Anthony Migchels.I did not come across
this article in my original search:

The velocity of money is a badly
neglected aspect of monetary theory. It is far more important than people
realize and both in past and in the present depression, sluggish circulation
played a major and negative role. The most obvious way of increasing the
velocity of money is Silvio Gesell’s demurrage, a negative interest rate, in
effect a tax on holding money. This is not just theory. There is a famous case
in which it was implemented. The Wörgl experiment showed truly extraordinary
results and is legendary in Interest-Free Economics.

I suspect the velocity is certainly an important factor in
the relative prosperity of Wörgl during the time of the experiment (and I have
no doubt that demurrage contributed to this velocity directly).This seems to be consistent with (my
understanding of) most schools of economics: the velocity of money has an
effect on the pace of the economic activity of the subject population – or perhaps,
more accurately, the pace of economic activity can be measured by the
subsequent velocity of money.

Far beyond the scope of either my original post or this one,
but I will mention that it is also held that velocity will have an impact on
price inflation / deflation.Inflation apparently
was not a problem in Wörgl during the year of the experiment.As I mentioned, I suspect inflation was kept
in check because a) the scrip was tied to the national currency (which I believe
was suffering through a price deflation at the time, and b) the experiment
lasted only one year.

So, would this be sustainable?If not, why not?

I believe the activity would not have been sustainable.I believe that once the taxes in arrears were
completely paid and once the people paid in advance to the degree they felt
sufficient (one year in advance?Five years
in advance?I don’t know, but at some
point they would stop), the scrip would lose a key part of its attractiveness.

One way a government can ensure the demand for its currency
is to demand (or accept) that taxes are paid in the subject currency.The other way is through monopoly legal
tender laws.Wörgl obviously could not legislate
or enforce monopoly legal tender, so the demand for the scrip could certainly
be attributed to the need to pay taxes.

The demand could certainly not be attributed to the
demurrage – not when there was the national schilling available – paying interest,
and at a one-for-one exchange (setting aside the conversion fee).

Once this tax need was satisfied, what would happen to the desirability
of a depreciating-value scrip vs. currency that did not come with a 1% monthly
penalty?The answer to me is clear, not
that we have to agree.I suspect the
depreciating scrip would begin trading at a discount, and sooner than later
would be regularly returned to the bank for the national currency, even with
the 2% loss.Two percent might be too
big a loss when one owes taxes and can satisfy these taxes with the
depreciating scrip at full face value.However,
when there is no benefit to holding a depreciating currency to the national
one, I suspect many would eat the one-time 2% charge to avoid paying the
recurring 1% charge.

In my opinion, this is exactly the situation that was
immediately in front of Wörgl when the national government put an end to the
experiment.Depending on which estimate
of taxes in arrears used (see the discrepancy as pointed out in my first
article), within one month, but not more than six, all taxes in arrears would
have been paid.At that point, I suspect
demand for the scrip would have fallen – resulting in the exchange for national
currency that I described above.

For two reasons, it is too bad the experiment at Wörgl was
not allowed to continue: 1) as I have stated before, I fully favor free markets
and competition in money / banking / etc.Decentralized and competitive systems are certainly preferable to
centralized systems.For this reason
alone, I support having an infinite number of experiments all around the world;
and 2) I guess I could see if my suspicions would have proved out.

I hope these comments are clear regarding my views on your
questions.

I would like to comment on one other point from the Migchels
article:

The simple fact is that even today
a demurrage instead of interest on the money supply would radically transform
our economies overnight.

I do not know if Migchels is suggesting the complete replacement
of current money schemes with schemes based on demurrage, or if he suggests
that both operate side-by-side, as was done in Wörgl.So I make no statement about his view on the
subject, other than to use this sentence of his to clarify the issue presented.

To the extent this has been commented on by others in the
papers I found in my research, they all pointed to having the two currencies
side-by-side.Bernard Lietaer held this
view, as does Fritz Shwarz / Irving Fisher (again, this is from the quote that I
mentioned the attribution was not clear).

As to why this should be so (or why it should not be so), I
have no opinion at the moment.It is not
of terrible importance to the purpose of my posts.

Migchels is suggesting (but may not realize it) the beginnings of a classic bank run - what happens when depositors don't have faith in holding paper. This is a bank run on national currencies by trading in depreciating currency.

So now, does the parish stop paying workers in the scrip? If so, the experiment is over. If not: as the town only had 40,000 national schillings on deposit for this conversion backstop, the backstop would have been depleted in a matter of weeks, or months at most.

At that point or before, with the parish now 40,000 schillings poorer and the private citizens at least 100,000 schillings poorer, the municipal workers would have gone on strike, I imagine.

Either way, the depreciating scrip is no longer in circulation. With non-depreciating national scrip as holdings, there is once again no motivating factor to provide incentive for people to part with their currency other than the more typical factors of supply and demand.

The Silvio Gesell's idea is that main currency to be replaced with demurrage currency. This main currency should be the only legal tender of country. Other currencies should not be accepted as payments. They should be exchanged on money markets. Only the main demurrage currency should be accepted as tax payments. That's the idea. Otherwise the experiment will finish as you described in your article.

Using demurage currency as complementary currency or as currency on free market of other currencies would not have the desired effect of high velocity circulation and lowering the interest rates in the money system. Usurers, rich man and speculators always will be against than demurrage currency, because they will lose their passive interest profits.